Getting in on the ground floor

Fund manager targets small- and micro-cap stocks poised for growth

By

JohnSpence

BOSTON (MarketWatch) -- Running a portfolio that targets some of the market's smallest stocks allows Nancy Prial to buy growth opportunities, often in overlooked areas, and ride them before the rest of the market piles on.

"If we discover them, we can buy and not wait until they appreciate into a higher market-capitalization range," says the manager of the roughly $100 million Managers AMG Essex Small/Micro Cap Growth Fund
MBRSX, -0.39%
She said she looks for companies with market caps between $50 million and $1.5 billion, with everything below about $350 million considered micro-cap stocks.

The fund uses the small-cap Russell 2000 Growth Index for its benchmark, although Prial said she worries less about what the broad stock benchmarks are doing and concentrates on identifying growth companies and themes early.

"We're focused on new ideas and products with sufficient upside to compensate for liquidity issues," the fund manager said, alluding to higher transaction costs for small stocks due to market impact and wider trading spreads.

She said the fund takes a "reasonably long-term approach" and holds stocks with an eye on two to three years of appreciation at minimum. The fund has an annual turnover rate of 78%, according to investment researcher Morningstar Inc.

"We want to get growth early by buying companies poised to benefit from a new product, or from a big industry shift," Prial added.

However, she's also looking for growth that's sustainable. "We like companies that are gaining market share and raising profit margins by growing faster than competitors and leveraging expenses," she said. "We also pay attention to the stock price, and buy when growth expectations are too low."

Managers AMG Essex Small/Micro Cap Growth Fund, which held 86 stocks at the end of June, had a five-year annualized return of 22.5% through Aug. 10, placing it in the top 2% of small-cap growth funds, according to Morningstar.

Growth in unusual places

Prial said one stock that's been a long-term holding is B/E Aerospace Inc.
BEAV, +0.57%
which specializes in making cabin interior products for planes. She said the company is benefiting from the growth of international travel markets and more orders from Boeing Co.
BA, +0.71%

B/E Aerospace is well-positioned to profit from many carriers preparing to add and upgrade business-class seats, especially overseas, Prial said.

Another stock on her radar screen is Taleo Corp.
TLEO
which focuses on the human-resources industry by helping businesses recruit workers. More companies are using Taleo's on-demand, Web-based software to find and hire candidates, according to Prial.

Earlier this month, the company reported a 32% revenue jump from a year earlier. "The earnings are growing nicely, and we're still early in the growth cycle," Prial said.

Fitting in with the fund's "growth in unusual places" approach is Bucyrus International Inc.
BUCY
the South Milwaukee, Wis.-based mining equipment producer.

Even though the company is an established player in a mature industry, Prial thinks it can take advantage of demand for coal, especially from emerging economies such as India and China. These countries are behind on technology and will be investing in modernizing their mining industries, while the same equipment can be used to mine oil sands in Canada and also uranium, she said.

"Significant growth drivers are changing the outlook for an older industry," Prial said.

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